Final exam notes - Chapter 16-Fractional reserve banking a...

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Chapter 16 -Fractional reserve banking – a system in which depository institutions hold reserves that are less than the amount of total deposits -Reserves – in the U.S. Federal Reserve System, deposits held by Federal Reserve district banks for depository institution, plus depository institutions’ vault cash -Legal reserves – reserves that depository institutions are allowed by law to claim as reserves; consist of deposits held at Federal Reserve district banks and vault cash -Required reserves – the value of reserves that a depository institution must hold in the form of vault cash or deposits with the Fed; (required reserves = checkable deposits * required reserve ratio) -Required reserve ratio – the percentage of total deposits that the Fed requires depository institutions to hold in the form of vault cash or deposits with the Fed -Excess reserves – the difference between legal reserves and required reserves; (excess reserves = legal reserves – required reserves) -When a check written on one bank is deposited into another bank, the two depository institutions involved are individually affected, but the overall money supply does not change. -Balance sheet – a statement of the assets and liabilities of any business entity, including financial institutions and the Federal reserve System; assets are what is owned; liabilities are what is owed -Net worth – the difference between assets and liabilities -Open market operations – the purchase and sale of existing U.S. government securities (such as bonds) in the open private market by the Federal Reserve System -Maximum money multiplier – the reciprocal of the required reserve ratio, assuming no leakages into currency and no excess reserves; it is equal to (1/required reserve ratio); can be reduced by leakage: 1. currency drains; 2. excess reserves -When the Fed increase reserves through a purchase of U.S. government securities, the result is a multiple expansion of deposits and therefore of the supply of money -When the Fed reduces the banking system’s reserves by selling U.S. government securities, the result is a multiple contraction of deposits and therefore of the
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